The state of Illinois is facing its own budgetary reality as lawmakers enter their final weeks in Springfield: $6.5 billion in unpaid bills, a $130 billion pension gap, and credit ratings that are still just above junk-bond status despite an income-tax boost last summer. That makes it an outlier in the Midwest, a state that can’t seem to manage its finances while its neighbors prosper. However, its tax structure is vastly different from theirs, a fact that members of both parties have long decried but which has remained unchanged.
J.B. Pritzker’s campaign is the latest to suggest that the state’s revenues be aligned with those of its neighbors, and that would be a significant change. He’s pushing to modify the state’s constitution to allow a graduated income tax instead of the mandated flat tax, after years of nonserious debate. If that happens, Illinois’ tax structure will be closer to those of neighboring states.
However, there are two additional forms of taxes that our neighbors use—ones that have been brought up repeatedly—that appear to be too noxious to consider.
In some way, all of Illinois’ neighbors tax retirement income (as does the federal government). Illinois is one of only three states with an income tax that does not apply to public and private pensions, 401(k) withdrawals, annuities, Social Security payments, and IRA withdrawals. If it did, a new report released last week by the nonpartisan Civic Federation of Chicago advised that Illinois enact a tax on retirement income, which the group estimates could raise more than $2.5 billion next year.
Laurence Msall, president of the Civic Federation, highlighted that the group’s idea isn’t a “stand-alone” proposal that would need to be implemented alongside a robust budget.
“If you don’t have to, no one wants to add any new taxes,” he remarked. However, he went on to say that the decades-old notion of exempting retirement income from taxation appears to be out of date. “Is it true that not taxing retirement income keeps people from moving to Illinois?” Msall explained. “The Census tracts appear to indicate that people are fleeing Illinois.”
Indeed, according to census data, the state has lost over 88,000 net people in the last four years, with more than a third of the drop occurring in the last year alone.
However, AARP Illinois state director Bob Gallo believes that serious consideration of a tax on retirement income will drive even more retirees out of the state.
“Our concern when this comes up… is not to solve the state’s fiscal problems on the backs of one group of individuals who did not create the problem in the first place, who in their retirement did not plan for this to come out of their retirement income, and who do not have the opportunity or elasticity in their income to make up the difference,” Gallo said.
In 2015, AARP conducted a poll of state residents over the age of 50 on the topic. Nearly 90% of people were against the concept. In a 2013 study conducted by the Simon Institute at Southern Illinois, 74 percent of respondents said no, but 60 percent said yes to a tax on retirement income over $100,000, compared to only 39 percent who said yes to service taxes.
Retirement income was included in Illinois’ first income tax, which was enacted in 1969. Retirement income was partially exempted two years later, and then entirely exempted in 1972. Though there had been concerns about losing money in the early days of the exemption, real discussions of reverting to the previous system rapidly proved politically untenable.
Senior citizens are a well-known voting bloc that can be counted on, and they are an important demographic to target. Both Gov. Bruce Rauner and candidate Pritzker agree on this point: no discussion of taxing retirement income, regardless of the possible revenue bump, is acceptable.
According to a recent analysis by the Civic Federation, Illinois should expand its sales tax to include a list of 14 service categories, the same category of services that Wisconsin taxes. Illinois presently taxes just a small number of services, albeit the majority of them—12 out of 17 according to the Federation of Tax Administrators—are classified as utilities and hence subject to separate taxation. Only Indiana, out of the five states that border Illinois, does not now tax services.
Jason Stein, research director for the nonpartisan Wisconsin Policy Forum, said he understands how difficult it is to propose new taxes on services—a “tax swap” was proposed in 2006 to reduce property tax burdens, but it ultimately failed—but once the sales tax is in place, “14 cents on a latte” tends to “flint under the radar.”
“If you ask a homeowner how much property taxes they paid last year, they’ll probably tell you immediately away,” Stein said. “Unless they’re keeping count, they wouldn’t know how much they paid in sales taxes.”
The case for taxing services is based on the changing nature of the economy: rather than spending primarily on things, households are now spending more on services or services that provide products. The Tax Foundation, a nonpartisan think organization based in Washington, D.C., has recommended that governments adopt a broader tax base by extending sales taxes to services on numerous occasions.
Last spring, as leaders in the Illinois Senate attempted to broker a deal that would end the two-year political stalemate in which Illinois operated without a proper budget, the question of taxing certain services like laundry and dry-cleaning, pest control, security services, tattoos and piercings was on the table. However, the services were removed from the so-called “Grand Bargain” in the middle of discussions, and the deal fell through nevertheless.
Rauner was open to taxing “non-essential” services like charter jet flights, interior decoration, and marina towing during his first gubernatorial campaign in 2014. However, since Democrats and some members of his own Republican party pushed through a tax hike to end the budget impasse, Rauner has become a skeptic of any upward tax tweak.
Meanwhile, a Pritzker spokesman noted that whenever the candidate mentions opposing “regressive” taxes, she means an enlarged sales tax on services.
Are retirement annuities taxable in Illinois?
Your Retirement Annuity Is Taxed All GARS benefits are exempt from state income tax under Illinois law, but your benefits are subject to federal income tax.
Which states do not tax annuities?
Alaska, Florida, Nevada, New Hampshire, South Dakota, Tennessee, Texas, Washington, and Wyoming are the only states without a personal or state tax. Alabama, Hawaii, Illinois, Kansas, Louisiana, Mississippi, New York, and Pennsylvania are among the nine states that exempt CSRS and FERS annuities from state taxation.
Does Illinois tax pension distributions?
Almost all retirement income, including Social Security retirement payments, pension income, and income from retirement savings accounts, is tax-free in Illinois. However, the state has among of the country’s highest property and sales taxes.
What retirement income is taxable in Illinois?
Retirement Income: Illinois is one of the states with the highest tax burdens for retirees. It is, however, the only Midwestern state that exempts all 401(k), IRA, and pension income from taxation. To be tax-free, pension and 401(k) income must come from a qualifying employee benefit plan.
Benefits from Social Security: Benefits from Social Security are not taxed in the Prairie State.
Inheritance and Estate Taxes: Estates worth more than $4 million in Illinois are subject to an estate tax.
Does Illinois tax 403b distributions?
Illinois does not tax retirement plan income as of 2011. Withdrawals from IRAs are not taxed. Rollovers from a traditional IRA to a Roth IRA are not taxed by the state. It also exempts income from annuities, 401(k) plans, 403(b) plans, 457 plans, self-employed retirement plans, government/military Thrift Savings Plans, railroad retirement benefits, Social Security, federal retirement savings bonds, and pensions.
How do you avoid tax on an annuity distribution?
When you remove your original investment — the purchase premium(s) you paid — in a nonqualified annuity, you won’t be taxed. The interest portion of the payment is the only part that is taxable.
IRS guidelines specify that you must first remove all taxable interest before removing any tax-free principle from a deferred annuity. Converting an existing fixed-rate, fixed-indexed, or variable deferred annuity into an income annuity will help you avoid this major disadvantage. Alternatively, you can start by purchasing an income annuity.
Do you have to pay taxes on annuity withdrawals?
- In the case of eligible annuities, you will be taxed on the entire withdrawal amount. If it’s a non-qualified annuity, you’ll simply have to pay income taxes on the earnings.
- The principal amount and its tax exclusions are evenly divided across the estimated number of instalments in your annuity income payments.
- In most circumstances, taking money out of your annuity before becoming 59 1/2 years old will result in a 10% early withdrawal penalty.
How do I report an annuity on my taxes?
Forms 1040, 1040-SR, and 1040-NR are commonly used to report annuity distributions. If federal income tax is withheld and an amount is shown in Box 4, you must attach Copy B of your 1099-R to your federal income tax return.
Which states charge a premium tax on annuities?
California, Florida, Maine, Nevada, Puerto Rico, South Dakota, West Virginia, and Wyoming are the eight jurisdictions that now levy state premium taxes on annuity deposits. The tax is imposed based on the buyer’s residence.
Does Illinois tax 401k withdrawals?
Distributions from qualifying employee benefit plans, such as 401(K) plans, and the federally taxed portion of Social Security benefits are not taxed in Illinois.
